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Why Warren Buffett should never pay a dividend

Berkshire Hathaway CEO Warren Buffett waits to play table tennis during the Berkshire Hathaway annual meeting weekend in Omaha, Nebraska, U.S. May 7, 2017.


Warren Buffett can grab headlines and attract new investors to his flagship Berkshire Hathaway Inc. All he has to do is break with tradition and start paying a dividend.

Here's hoping he resists the temptation.

The great investor has insisted on a no-dividend policy for decades. To relent now would be an admission of defeat – honourable defeat, to be sure, but still defeat.

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It would also be beside the point. Anyone who invests in Berkshire is buying into a philosophy of investing – one that insists a single, sage investor can deploy capital better than Mr. Market.

It's easy for outsiders to take issue with that premise, but if you're a Berkshire shareholder, you're implicitly endorsing it. You're declaring that you prefer to have Mr. Buffett direct where your money goes rather than buying an index fund and trusting the market to allocate your funds.

Given that, a dividend makes no sense. It doesn't matter that Mr. Buffett is sitting on $96-billion (U.S.) in cash. All that matters is his ability to beat the market. If he can do so, then his tendency to let cash build is a good thing, a sign that he's building reserves for future acquisitions. If he can't, a dividend doesn't solve the fundamental problem that his investors would be better off in an index fund.

How do the odds shape up on Mr. Buffett's continued ability to outpace Mr. Market? Fans will tell you his track record of beating the S&P 500 over decades earns him the right to keep on trying. That's reasonable.

But critics have a strong case too. They can point to Berkshire's mediocre results since 2010, as well as recent missteps – from a badly timed bet on IBM to a customer-abuse scandal at Wells Fargo, one of Mr. Buffett's long-time favourite stocks.

The great investor is now 86, and more frank than ever about his mistakes. At the Berkshire general meeting on Saturday, he confessed to blundering by not buying Google shares years ago. He followed up on Monday by saying it was "stupidity' that kept him from investing in Amazon early on.

Both mistakes resulted from his long-standing disdain for technology stocks. He argued for years that the tech sector was too complicated and too fickle to provide the quality of opportunities he wanted. Now he appears to be changing his mind – with a vengeance: As if to make up for his IBM miscue, he's loading up on Apple shares.

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Maybe that will work out. But it's worth noting that Mr. Buffett is paying the penalty for decades of success. Berkshire has grown so big that it's tough to find opportunities large enough to make a material difference in its results.

On top of that, Mr. Buffett faces a common problem among many brilliant innovators: He's surrounded by imitators.

A new industry has sprung up dedicated to isolating the factors that made the Sage of Omaha and other legendary investors so successful. Quantitative analysts argue that Mr. Buffett's secret to beating the market is simpler than it appears. It boils down to using cheap cash generated by Berkshire's insurance operations to leverage up the returns from dependable blue-chip stocks.

A 2013 paper by Andrea Frazzini and David Kabiller of AQR Capital Management and Lasse Heje Pedersen of New York University found that the billionaire's stellar performance could be largely explained by his affinity for stocks that met three criteria: They were cheap, low-risk and high-quality. But such stocks performed well in general, not just the ones chosen by Mr. Buffett. What he added was the ability to use cheap cash to amplify his returns, as well as the persistence to stick with the strategy through rough patches.

His "returns appear to be neither luck nor magic, but rather reward for the use of leverage combined with a focus on cheap, safe, quality stocks," the researchers concluded in their paper, titled Buffett's Alpha.

Can that strategy still work? Mr. Buffett's moves into technology show that he's still learning, still experimenting. That is good. But it takes faith to argue he can continue beating the market – something he has tacitly admitted by praising index funds.

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Either way, offering a dividend should be beneath the great man. It would, at most, only attract the type of investor he has always disdained. Mr. Buffett has earned the right to do things his way, even if that way doesn't appear to be working as well as it once did.

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